In twelve previous columns, I discussed my use of “tax tidbits” to enliven conversations when talking taxes with clients or speaking to groups like business owners and home sellers. The tidbits discuss IRS rulings, law changes, court decisions and tactics that trim taxes for this year and even future ones.
I‘d like to share more of my favorites with you here.
A reminder for investors who plan to move large amounts of money around year-end into stock-market mutual funds held in taxable accounts: Funds generally make yearly distributions of their capital gains. Usually, they do so in the closing months.
What happens when an investor I’ll call Ceil invests a few days before a year-end payout and gets back part of her investment? Ceil is in for an unpleasant, expensive tax surprise.
The IRS says Ceil has to count the distribution as reportable income for the year she receives it, and she’s liable for taxes on it. This assumes that Ceil isn’t liable for taxes, because, like many investors, she’s in the zero tax bracket for individuals with long-term capital gains.
It makes no difference that the fund realized the gains earlier in the year, before Ceil bought her shares. Ceil needn’t concern herself with this this tax trap when she puts funds in an individual retirement account or some other kind of tax-deferred retirement plan.
Check envelopes that you send to the Internal Revenue Service: Make sure that mailings to the IRS bear the proper amount of postage and show a full return address. Mail without stamps—even tax returns—goes undelivered and is returned to the sender by the Postal Service. And mail without stamps and without a return address goes to the dead letter office. Don't run the risk of being hit with a nondeductible penalty for a tardy filing.
The IRS computes the late-filing penalty for a delinquent return from the date it’s received, not the date mailed. The difference between a postmark of April 15 and April 16 can mean an extra 5 percent penalty if the return is delayed for as little as one extra day.
This was underscored in a dispute involving a return that was due on the usual April 15, but not mailed until May 14, just under a month late, and not received until May 19, a bit over one month late. The IRS said the penalty should be 10 percent rather than 5 percent, and the Tax Court agreed.
Question: What are IRS letter rulings, and why do they help or hurt?
Answer: Rulings are, among other things, responses by the IRS to court decisions and its official interpretation of the Internal Revenue Code. In most cases, they’re binding on revenue agents and other staffers. The courts generally give rulings far less weight than regulations, regarding them simply as the agency’s view of the code. The IRS says that taxpayers generally may rely on published revenue rulings in determining the tax treatment of their own transaction that arise out of similar facts and circumstances
IRS audits: guilty until proven innocent: Good records are essential if you’re audited. Audits are basically adversarial proceedings and the deck is stacked in favor of the IRS. Unlike criminal trials, where defendants are presumed to be innocent until the government establishes their guilt, the burden of proof in tax disputes is on taxpayers—not the agency, as a general rule.
In the case of deductions, for example, the burden is on them to show that they incurred and paid the expenses. What if they can’t? An unyielding IRS will simply disallow the expenses.
The IRS requires them to provide evidence that satisfies three requirements: First: they had the expenses; bills can take care of that. Second: They paid them; usually, credit-card statements and copies of checks are sufficient. Third: The items in question were business-related or deductible for other reasons. For their deductions to pass muster, they have to satisfy all three requirements. Two out of three isn’t a passing grade.
Look for more tidbits in subsequent columns.
Additional articles. A reminder for accountants who would welcome advice on how to alert clients to tactics that trim taxes for this year and even give a head start for next year: Delve into the archive of my articles (more than 300 and counting).
Attorney and author Julian Block is frequently quoted in the New York Times, Wall Street Journal, and the Washington Post. He has been cited as “a leading tax professional” (New York Times), an “accomplished writer on taxes...